- An LLC Operating Agreement is a contract between LLC members, listing details of the organization’s ownership, structure, and finances.
- LLC operating agreements aren’t legally required in most states, but experts say every LLC should create one.
- To create an LLC operating agreement, you can use free online templates, sign up for paid online services, or consult with an experienced lawyer.
- This article is intended for entrepreneurs and small business owners entering into an LLC agreement.
An LLC, or limited liability company, is a popular legal structure for small businesses because it protects the personal property of owners if the business is sued or declares bankruptcy. One of the documents you need for this is the LLC Operating Agreement, which clearly identifies the structural, financial and operational details of the business. However, this document is not only necessary for multi-member LLCs; single member LLCs also need this.
What is an LLC Operating Agreement?
A limited liability company operating agreement is a legal contract between the business members of the LLC that clearly defines the structural, operational, managerial, and financial details of the organization. The agreement includes clear guidelines and protocols that each member must follow.
Dustin Ray, CEO of Training Company LLC Incfile, states that each LLC agreement must document the roles, responsibilities, rights and relationships of members, as well as their respective ownership percentages and their share of profits and losses.
“These agreements also spell out what will happen to the LLC if someone leaves or if a new member wants to join the group,” Ray told Business News Daily. “Not only does this increase the efficiency and effectiveness of an organization, it also provides a clear protocol for disagreements and misunderstandings regarding decision-making and financial transactions.”
To remember : An LLC operating agreement is an internal document that describes the division of the ownership, operations, management, and funding of an LLC among its members.
Why Are LLC Operating Agreements Important?
Although only a few states (California, New York, Missouri, Maine, and Delaware) legally require LLCs to create operating agreements each LLC can benefit from. An LLC operating agreement helps identify several important aspects of a business, such as classifying the legal structure, defining rules and procedures, and clarifying levels of control and responsibility. It offers personal liability protection, operational clarification and dispute resolution. This is a particularly useful tool to have on hand when your business grows or your membership changes.
Kelly Williams, Founder and Managing Partner of Slate image group, said an operating agreement is especially important in distinguishing how your LLC should be operated in the eyes of the state, which is why even one-person LLCs need it.
“Typically, without an operating agreement, the state in which an LLC is filed has default rules that govern the LLC,” Williams said. However, these state default rules are generalized and are not designed to adhere to the individual interests of business owners. Therefore, an operating agreement is important in order to tailor the governance of your LLC as good to you. ”
As your business earns (or loses) money, an LLC operating agreement can help you make financial decisions, like the distribution of ownership shares and the allocation of profits and losses. Informal and verbal agreements can get complicated when it comes to money – these are details you want formally outlined and agreed upon in advance.
“Each member of the LLC usually gets a percentage of ownership in the LLC that is commensurate with their contributions, but sometimes the partnerships aren’t always so neat,” Ray said. “Operating agreements allow members to divide ownership as they see fit.”
An operating agreement can specify how much of the profits allocated to the LLC will be distributed to members each year. Ray stated that a member of the LLC must pay income taxes on the full amount of profit allocated to it by the distribution actions specified in the operating agreement, whether or not those profits were actually paid. to the member.
To remember : An LLC operating agreement serves several purposes, including clarifying business processes, determining the legal and financial structure of the business, and resolving conflicts.
What is included in an LLC operating agreement?
An LLC operating agreement should include details of ownership, operations, management and financing. Williams said every LLC operating agreement should cover the following information:
- The participation percentages of each member
- Voting rights and responsibilities of members
- Powers and duties of members (and managers, if applicable)
- Procedures for holding meetings
- Capital contributions by members and methods of distributing the profits and losses of the company among the members
- Procedures for the transfer of interest, including redemption provisions, redemption provisions and rules governing transfers of ownership in the event of death
- Provisions relating to the dissolution of the LLC
Be sure to check your state’s specific requirements for LLC operating agreements, as they dictate different levels of complexity and detail. Based on your state’s guidelines, you may need to include additional detailed information in your operating agreement to better suit your business. For example, many states have default rules for LLCs that can be changed slightly by an operating agreement.
“Some states, for example, have a default rule that requires members of the LLC to divide profits and losses equally, regardless of each member’s level of investment in the business,” Ray said. “If all members have not invested equal amounts in the LLC, it is unlikely that all members will want to distribute the profits equally. To avoid this, operating agreements can specify how members wish to distribute the profits. profits and losses. ”
To remember : An LLC operating agreement should include key terms that govern the inner workings of the business.
How to Create an LLC Operating Agreement?
The best way to create an LLC operating agreement is to consult with an experienced lawyer who can customize an operating agreement to meet the needs of your business. While this course of action is highly recommended, it is not your only option. Simple businesses that only need basic LLC operating agreements can search for sources online to establish their own agreements.
When building an LLC operating agreement, according to Williams, you need to include these six basic elements:
- Organization: Describe the establishment of the LLC, indicating the official name and address of the business, its purpose, who owns it, what type of business it is and the percentage of ownership of each founder and / or member in the company.
- Capital contribution: Describe which members made an initial capital contribution to start the LLC and how additional funds will be raised to finance the business.
- Management and voting: Describe how the business is run and establish the voting rights and procedures that members of the LLC must follow.
- Distribution : Provide a procedure on how the profits and losses of the LLC are distributed among the members of the business.
- Membership changes: Describe the process of adding and removing members to the LLC. This is where the process for transferring member interests is established, along with the buyout and sell arrangements. This section also dictates how property rights are transferred in the event of death.
- Dissolution: Outline the procedures for dissolving the business. This section is often known as the “liquidation” of the LLC business.
To remember : You can use free or paid online templates to create a basic LLC operating agreement, or work with an attorney to create an operating agreement tailored for your business.
LLC Operating Agreement Templates and Online Services
If you can’t afford to hire an attorney to create a custom operating agreement for your LLC, you can access free online templates and paid online services to establish a basic agreement.
Here are some free templates for LLC operating agreements:
There are also online services that can help you create an LLC operating agreement for a fee:
- LegalZoom provides legal services online and can create an LLC operating agreement for you.
- Incfile offers LLC formation services, giving you the option of including an LLC operating agreement in its business start-up package.
Before setting up an LLC, you need to identify the details of the type of business you want to set up (management structure, members, tax structure, etc.).
“If you are just starting out as a new business owner, these kinds of considerations can often seem daunting,” Williams said. “Seeking legal counsel to help business owners create their operating agreement allows them to go through all of these elements one step at a time and establish a solid foundation for their business so that there is no have no unpleasant surprises in the future. ”